Corporate Law Update

In this week’s update: A Bill is published to widen gender and ethnicity pay gap reporting, an HMRC consultation on expanding the Trust Registration Service and the Court of Appeal considers the enforceability of a restrictive covenant.

Bill published to widen gender and ethnicity pay gap reporting

A Bill has been introduced into Parliament to widen the UK’s gender pay gap reporting regime. The Equal Pay Bill (among other things) amends section 78 of the Equality Act 2010, which provides the statutory basis for the current gender pay gap reporting regime.

Under that regime, organisations that have 250 or more employees must publish information on the disparity in the amounts they pay men and women respectively. The Equality Act 2010 (Gender Pay Gap Information) Regulations 2017 set out the basis on which organisations must calculate and present their gender pay gap data.

If enacted, the Bill would make the following changes:

  • The threshold for pay gap reporting would be lowered to “100 or more employees”.
  • The regime would be extended to require reporting on pay gaps across different ethnicities. This prospect has previously been raised by the Government in its October 2018 consultation on introducing an ethnicity pay gap reporting regime (see our previous Corporate Law Update).
  • Organisations would need to set out their actual mean and median hourly pay of male and female employees and employees overall. (Currently, they need publish only the mean and median difference in hourly pay between men and women.)
  • Data would need to be broken down between full-time and part-time employees.
  • Organisations would be required to publish a “course of action” to reduce any differences in pay between male and female employees and employees of different ethnicity.

The Bill has been introduced as a “private members’ bill” by Labour Peer Baroness Prosser. Private members’ bills rarely become law, so it is by no means certain that these changes will be implemented. We will, however, continue to monitor the Bill closely.

HMRC consults on expanding Trust Registration Service

HM Revenue and Customs has published a technical consultation on the expansion of its Trust Registration Service (TRS). Currently, the TRS requires details of an express trust established in the UK to be registered with HMRC if the trust has a “taxable consequence”.

Under the proposed changes (which would implement the Fifth EU Anti-Money Laundering Directive (MLD5)), the TRS would be extended to all express trusts in the UK, regardless of any link to taxation.

HMRC is aware that this extension could, in theory, encompass express trusts that are used in various types of transaction but which are established for structuring, rather than tax-related, purposes. This includes loan security trusts, pension trusts, employee benefit trusts, share option schemes, and nominee and custodian arrangements for holding listed securities. HMRC is seeking views on ways to ensure that the extension of TRS remains proportionate to the risks which MLD5 attempts to address.

Interested parties have until 21 February 2020 to respond to the consultation.

A restrictive covenant for “employee shareholders” was still binding on a shareholder after they ceased to be an employee

In the case of Guest Services Worldwide Limited v David Shelmerdine [2020] EWCA Civ 85 the Court of Appeal considered whether restrictive covenants in a shareholders’ agreement applying to “Employee Shareholders” bound a shareholder (Mr S) after he ceased providing consultancy services to the company (GSW), and whether the restrictions were an unreasonable restraint of trade and therefore unenforceable.

We considered when a restrictive covenant might be an unreasonable restraint of trade in our recent update, when reporting on Harcus Sinclair LLP v Your Lawyers.

What happened?

GSW produces maps for distribution to guests at luxury hotels. Revenue is generated from advertising fees paid by businesses highlighted on the maps. Mr S was the founder of the business and, on acquisition of the business by GSW, he was retained as an employee. He remained with GSW as either an employee, agent or consultant until February 2019.

Mr S was also a shareholder of GSW. As a shareholder, he was a party to GSW’s shareholders’ agreement (the Shareholders’ Agreement). The Shareholders’ Agreement included various restrictive covenants which applied to “Employee Shareholders” (defined as “any Shareholder who is also an employee, agent or director of the Company and those Shareholders who are Employee Shareholders as at the date of the Agreement are identified as such in the table at Schedule 1”). Mr S was identified in the schedule as one of the Employee Shareholders at the time the Shareholders’ Agreement was entered into.

The restrictive covenants in the Shareholders’ Agreement were to apply for (1) the time the party in question was a Shareholder, and (2) 12 months after the party ceased to be a Shareholder.

Once Mr S was no longer employed or engaged as a consultant by GSW, Mr S was deemed to have served a transfer notice in respect of his shares in GSW under the compulsory transfer provisions in GSW’s articles of association (the Articles). However, at the date of the judgment Mr S remained a shareholder of GSW.

In March 2019, Mr S allegedly used a map produced for GSW to solicit business in Switzerland, Budapest and Monaco. In April 2019, GSW issued proceedings against Mr S seeking an injunction restraining breach of the restrictive covenants in the Shareholders’ Agreement.

Considering the covenants in the Shareholders’ Agreement, the High Court had held that the restrictive covenants did not apply to an individual once they ceased to be an employee, even if they remained a shareholder. The judge had determined that because the restrictive covenants were to apply only to “Employee Shareholders”, the covenants did not apply to Mr S once his employment ceased.

The High Court had also held that, even if the restrictive covenants did apply to Mr S, they were unenforceable because their scope, nature and extent were in excess of what was reasonably necessary to protect the legitimate business interests of GSW.

GSW brought an appeal on the grounds that the judge had misconstrued the provisions of the Shareholders’ Agreement and had erred in concluding the restraints extended further than was reasonably necessary to protect GSW’s legitimate interests.

What did the court say?

The Court of Appeal disagreed with the High Court and allowed GSW’s appeal on both grounds.

The judge considered the objective meaning of the language used in the Shareholders’ Agreement, taking into account the factual and commercial context. The restrictive covenants had to be construed in the context of the Shareholders’ Agreement as a whole, and alongside the Articles. The judge took into account that there were various rights and obligations in the Shareholders’ Agreement which were clearly designed to protect GSW, its goodwill and the value of its shares. She also considered the compulsory transfer provisions in the Articles, which were designed to ensure a person would only remain a shareholder of GSW for a short period of time on ceasing to be an employee of GSW.

The judge held that it would make no commercial sense if the restrictive covenants could be avoided altogether by a person simply terminating their employment. The restrictive covenants had to be interpreted as still applying to a person once they ceased to fall within the definition of an “employee“, otherwise the provision had no real force. She held that a person who was an Employee Shareholder and to whom the restrictive covenants applied would remain subject to them for as long as they remained a shareholder, and for 12 months’ after ceasing to be a shareholder. Mr S was therefore subject to the restrictive covenants in the Shareholders’ Agreement.

In considering whether the restrictions were reasonable, the judge noted that where such covenants are contained in a shareholders’ agreement, rather than an employment contract, the court is less vigilant in its scrutiny. This has been considered in a number of cases and is a now an established principle.

The judge held that the 12 month restriction period was reasonable. The 12 month period runs from when the “Employee Shareholder” ceases to be a shareholder and, because of the compulsory transfer mechanism in the Articles, it was very unlikely a shareholder would be “locked in” to the company or be unable to transfer its shares. GSW had a legitimate interest in seeking to prevent Employee Shareholders, who were likely to have detailed knowledge of the business, from competing with the business and soliciting clients.

What does this mean for me?

  • The case emphasises the importance for companies of ensuring that restrictive covenants are very clearly drafted. In particular, it is important to make it clear to whom the restrictions apply, and when they will be triggered.
  • It is also a reminder that it is good practice to include restrictive covenants in any shareholders’ agreement (or equivalent) as well as in any employment contract. The provisions in the shareholders’ agreement will be subject to less vigilant scrutiny by the courts and are more likely to be interpreted as being reasonable, and therefore enforceable.